53 Multinationalisation of Banking UNIT III 54 International Banking LESSON MULTINATIONALISATION OF BANKING CONTENTS 6.0 Aims and Objectives 6.1 Introduction 6.2 Nationalisation 6.3 Compensation 6.4 Liberalisation and Privatisation 6.5 Deregulation 6.6 Modes of Internationalisation 6.7 Global Banking 6.8 Major Events in Banking History 6.9 Let us Sum up 6.10 Lesson End Activity 6.11 Keywords 6.12 Questions for Discussion 6.13 Suggested Readings 6.0 AIMS AND OBJECTIVES After studying this lesson, you should be able to understand: z The nationalisation of business and terms of compensation z The economic liberalization and privatisation of Banks 6.1 INTRODUCTION The internationalization of finance placed international and national regulatory systems era under further stress to liberalize financial markets and remove the long standing barriers to trade in financial services This undeveloped several related developments most notably: some countries allowed foreign institutions a larger role in domestic financial markets; the erosion of domestic restrictions on capital markets; and the increasing' integration of domestic and international markets 6.2 NATIONALISATION It is the act of taking an industry or assets into the public ownership of a national government Nationalisation usually refers to private assets, but may also mean assets owned by lower levels of government, such as municipalities The opposite of nationalisation is usually privatisation or de-nationalisation, but may also be municipalisation A renationalisation occurs when state-owned assets are privatised and later nationalised again, often when a different political party or faction is in power A renationalisation process may also be called reverse privatisation The motives for nationalisation are political as well as economic It is a central theme of certain brands of 'state socialist' policy that the means of production, distribution and 55 Multinationalisation of Banking 56 International Banking exchange, should be owned by the state Socialists believe that public ownership enables people to exercise full democratic control over the means whereby they earn their living and provides an effective means of redistributing wealth and income more equitably Nationalised industries, charged with operating in the public interest, may be under strong political and social pressures to give much more attention to externalities They may be obliged to operate some loss making activities where social benefits are clearly greater than social costs - for example, rural, postal and transport services As an instance, the US Mail is guaranteed its nationalised status by the Constitution The government has recognized these social obligations and, in some cases, provides subsidies for such non-commercial operations Since the nationalised industries are state owned, the government is responsible for meeting any debts incurred by these industries The nationalised industries not normally borrow from the domestic market other than for short-term borrowing Nationalisation may occur with or without compensation to the former owners If it takes place without compensation it is a case of expropriation Nationalization is distinguished from property redistribution in that the government retains control of nationalised property Some nationalisations take place when a government seizes property acquired illegally For example, the French government seized the carmakers Renault because its owners had collaborated with the Nazi occupiers of France 6.3 COMPENSATION A key issue in nationalisation is payment of compensation to the former owner The most controversial nationalisations, known as expropriations, are those where no compensation, or an amount far below the likely market value of the nationalized assets, is paid Many nationalisations through expropriation have come after revolutions The traditional Western stance on compensation was expressed by United States Secretary of State Cordell Hull, during the 1938 Mexican nationalisation of the petroleum industry, that compensation should be "prompt, effective and adequate." According to this view, the nationalising state is obligated under international law to pay the deprived party the full value of the property taken The opposing position has been taken mainly by developing countries, claiming that the question of compensation should be left entirely up to the sovereign state, in line with the Calvo Doctrine Communist states have held that no compensation is due, based on socialist nations of private properties In 1962, the United Nations General Assembly adopted Resolution 1803, "Permanent Sovereignty over National Resources," which states that in the event of nationalisation, the owner "shall be paid appropriate compensation in accordance with international law." In doing so, the UN rejected both the traditional Calvo-doctrinist view and the Communist view The term "appropriate compensation" represents a compromise between the traditional views, taking into account the need of developing countries to pursue reform even without the ability to pay full compensation, and the Western concern for protection of private property When nationalising a large business, the cost of compensation is so great that many legal nationalisations have happened when firms of national importance run close to bankruptcy and can be acquired by the government for little or no money A classic example is the UK nationalisation of the British Leyland Motor Corporation At other times, governments have considered it important to gain control of institutions of strategic economic importance, such as banks or railways, or of important industries struggling economically The case of Rolls-Royce plc, nationalized in 1971, is an interesting blend of these two arguments This policy was sometimes known as ensuring government control of the "commanding heights" of the economy, to enable it to manage the economy better in terms of long-term development and medium-term stability The extent of this policy declined in the 1980s and 1990s as governments increasingly privatised industries that had been nationalised, replacing their strategic economic influence with use of the tax system and of interest rates Nonetheless, national and local governments have seen the advantage of keeping key strategic assets in institutions that are not strongly profit-driven and can raise funds outside the public-sector constraints, but still retain some public accountability Examples from the last five years in the United Kingdom include the vesting of the British railway infrastructure firm Railtrack in the not-for-profit company Network Rail, and the divestment of much council housing stock to "arms-length management companies," often with mutual status 6.4 LIBERALISATION AND PRIVATISATION Although economic liberalisation is often associated with privatisation, the two can be quite separate processes For example, the European Union has liberalised gas and electricity markets, instituting a system of competition; but some of the leading European energy companies (such as EDF and Vattenfall) remain partially or completely in government ownership Liberalised and privatized public services may be dominated by just a few big companies, particularly in sectors with high capital costs, or high sunk cost, such as water, gas and electricity In some cases they may remain legal monopolies, at least for some part of the market (e.g small consumers) Liberalisation is one of three focal points (the others being privatisation and stabilisation) of the Washington Consensus's trinity strategy for economies in transition An example of Liberalisation is the "Washington Consensus" which was a set of policies created and used by Argentina Check your Progress Fill in the blanks: Eurodollars are and liabilities denominated in US dollars but traded in Europe Since the nationalised industries are state owned, the government is responsible for meeting any incurred by these industries A key issue in nationalization is payment of to the former owner The market consists of the Asian dollar market, the Riodollar market, the Euro-yen market etc 6.5 DEREGULATION These changes initiated national policies of liberalisation and deregulation which were designed to attract capital to its financial markets Furthermore, they have been characterised by a trend toward a breakdown in the segmentation of financial markets Distinctions among services offered by different financial institutions are blurring in many countries and national markets are becoming increasingly integrated internationally The nature and extent of these changes differ across countries but almost everywhere competition in financial markets has intensified In a narrow sense, Eurodollars are financial assets and liabilities denominated in US dollars but traded in Europe True, the US dollar still dominates the market and most of the transactions are still conducted in the money markets of Europe, especially London But, today, the scope of the market 'stretches far beyond Europe in the sense that Eurodollar transactions are held also in money markets other than European and currency other than the US dollar Interpreted in a wider sense, the Eurodollar market refers to transactions in a currency deposited outside the country of its issue Thus, any currency internationally supplied and demanded and in which a foreign bank is 57 Multinationalisation of Banking 58 International Banking willing to accept liabilities and loan assets is eligible to become a Eurocurrency Interpreted this way, dollar deposits with banks in Montreal, Toronto, Singapore, Beirut, etc., are Eurodollars; so are the deposits denominated in European currencies in the money markets of the, USA and the above centres It is evident, therefore, that the term Eurodollar is a misnomer "Foreign currency market" would be the appropriate term to describe this expanding market The term Eurodollar came to be used because the market had its origin and earlier development with dollar transactions in the European money markets But despite the emergence of other currencies and the expansion of the market to other areas, Europe and, the dollar still hold the key to the market Today, the term Eurocurrency market is in popular use The Eurodollar market consists of the Asian dollar market, the Riodollar market, the Euro-yen market etc., as well as Euro-sterling, Euro-Swiss francs, Euro-French francs, Euro-Deutsche marks, and so on In short, in these markets, commercial banks accept interest - bearing deposits denominated in a currency other than the currency of the country in which they operate, and they re-lend these funds, either in the same currency or in the currency of the country in which they operate, or the currency of a third country In its Annual Report in 1966, the Bank for International Settlements (BIS) described the Eurodollar phenomenon as "the acquisition of dollars by banks located outside the United States, mostly through the taking of the deposits, but also to some extent by swapping other currencies into dollars, and the re-lending of these dollars, often after redepositing with other banks, to non-bank borrowers anywhere in the world." The currencies involved in the Eurodollar market are not in any way different from the currencies deposited with banks in the respective home country But the Eurodollar is outside the orbit of monetary policy, while the currency deposited with banks in the respective home country is covered by the national monetary policy 6.6 MODES OF INTERNATIONALISATION The process of internationalisation is a complex process and there are different phases and ways in which a bank can go international, as follows: Setting up of representative offices abroad on a selective basis Establishing network of correspondent banking system Setting up of foreign branches Interest acquisition in foreign bank Participation in the equity of foreign banks Setting up of bank consortia 6.7 GLOBAL BANKING In the 1970s, a number of smaller crashes tied to the policies put in place following the depression, resulted in deregulation and privatisation of government-owned enterprises in the 1980s, indicating that governments of industrial countries around the world found private-sector solutions to problems of economic growth and development preferable to state-operated, semi-socialist programs This spurred a trend that was already prevalent in the business sector, large companies becoming global and dealing with customers, suppliers, manufacturing, and information centres all over the world Global banking and capital market services proliferated during the 1980s and 1990s as a result of a great increase in demand from companies, governments, and financial institutions, but also because financial market conditions were buoyant and, on the whole, bullish Interest rates in the United States declined from about 15% for two-year US Treasury notes to about 5% during the 20-year period, and financial assets grew then at a rate approximately twice the rate of the world economy Such growth rate would have been lower, in the last twenty years, were it not for the profound effects of the internationalization of financial markets especially US Foreign investments, particularly from Japan, who not only provided the funds to corporations in the US, but also helped finance the federal government; thus, transforming the US stock market by far into the largest in the world Nevertheless, in recent years, the dominance of US financial markets has been disappearing and there has been an increasing interest in foreign stocks The extraordinary growth of foreign financial markets results from both large increases in the pool of savings in foreign countries, such as Japan, and, especially, the deregulation of foreign financial markets, which has enabled them to expand their activities Thus, American corporations and banks have started seeking investment opportunities abroad, prompting the development in the US of mutual funds specializing in trading in foreign stock markets Such growing internationalisation and opportunity in financial services has entirely changed the competitive landscape, as now many banks have demonstrated a preference for the “universal banking” model so prevalent in Europe Universal banks are free to engage in all forms of financial services, make investments in client companies, and function as much as possible as a “one-stop” supplier of both retail and wholesale financial services Many such possible alignments could be accomplished only by large acquisitions, and there were many of them By the end of 2000, a year in which a record level of financial services transactions with a market value of $10.5 trillion occurred, the top ten banks commanded a market share of more than 80% and the top five, 55% Of the top ten banks ranked by market share, seven were large universal-type banks (three American and four European), and the remaining three were large US investment banks who between them accounted for a 33% market share This growth and opportunity also led to an unexpected outcome: entrance into the market of other financial intermediaries: non-banks Large corporate players were beginning to find their way into the financial service community, offering competition to established banks The main services offered included insurances, pension, mutual, money market and hedge funds, loans and credits and securities Indeed, by the end of 2001 the market capitalisation of the world’s 15 largest financial services providers included four non-banks In recent years, the process of financial innovation has advanced enormously increasing the importance and profitability of non-bank finance Such profitability previously restricted to the non-banking industry, has prompted the Office of the Comptroller of the Currency (OCC) to encourage banks to explore other financial instruments, diversifying banks' business as well as improving banking economic health Hence, as the distinct financial instruments are being explored and adopted by both the banking and non-banking industries, the distinction between different financial institutions is gradually vanishing Check Your Progress What you understand by global banking? ……………………………………………………………………………… ……………………………………………………………………………… What are the modes of internationalisation of banking? ……………………………………………………………………………… ……………………………………………………………………………… 59 Multinationalisation of Banking 60 International Banking 6.8 MAJOR EVENTS IN BANKING HISTORY z Florentine banking – The Medicis and Pittis among others z Knights Templar- earliest Euro wide /Mideast banking 1100-1300 z Banknotes — Introduction of paper money z 1602 - First joint-stock company, the Dutch East India Company founded z 1720 - The South Sea Bubble and John Law's Mississippi Scheme, which caused a European financial crisis and forced many bankers out of business z 1781 - The Bank of North America was found by the Continental Congress z 1800 - Rothschild family founds Euro wide banking z 1803 - The Louisiana Purchase was the largest land deal in history z 1929 - Stock market crash z 1989 - Junk bond scandal and charges against Michael Milken resulted in new legislation for investment banks z 2001 - Enron bankruptcy, causing new legislation for annual reporting 6.9 LET US SUM UP This lesson deals with the internationalisation of finance, which placed international and national regulatory systems era under further stress to liberalize financial markets and remove the long standing barriers to trade in financial services This undeveloped several related developments most notably: some countries allowed foreign institutions a larger role in domestic financial markets; the erosion of domestic restrictions on capital markets; and the increasing' integration of domestic and international markets It also focuses on nationalisation, privatisation and deregulation 6.10 LESSON END ACTIVITY Nationalisation has opened a new door for the development of businesses and financial services Do you agree with this? 6.11 KEYWORDS Global Custodians: Having possessions of foreign securities for safekeeping, collecting dividends, etc Multinational banking: Multinational banking refers to the cross-currency and crosscountry facets of banking business Global Banking: Location and ownership of banking facilities in a large number of countries and geographic regions 6.12 QUESTIONS FOR DISCUSSION What is meant by privatization? Explain its merits and demerits Distinguish between nationalization and internationalization Write a note on historical developments in the internationalization of banks Check Your Progress: Model Answers CYP 1 financial assets debt compensation Eurodollar CYP Location and ownership of banking facilities in a large number of countries and geographic regions The process of internationalization is a complex process and there are different phases and ways in which a bank can go international, as follows: z Setting up of representative offices abroad on a selective basis z Establishing network of correspondent banking system z Setting up of foreign branches z Interest acquisition in foreign bank z Participation in the equity of foreign banks z Setting up of bank consortia 6.13 SUGGESTED READINGS C Jeevanadam, Foreign Exchange Management Levi, International Finance Ian H Giddy, Global Financial Markets Rupnaryan Bose, Fundamentals of International Banking, Macmillan India Ltd Vyuptakesh Sharan, International Financial Management, Prentice Hall of India ICFAI University Press, International Banking B.K Chauduri, O P Agrarwal, A Textbook of Foreign Trade and Foreign Exchange, Himalaya Publishing House 61 Multinationalisation of Banking ... Multinationalisation of Banking 60 International Banking 6.8 MAJOR EVENTS IN BANKING HISTORY z Florentine banking – The Medicis and Pittis among others z Knights Templar- earliest Euro wide /Mideast banking. .. dividends, etc Multinational banking: Multinational banking refers to the cross-currency and crosscountry facets of banking business Global Banking: Location and ownership of banking facilities in a... country of its issue Thus, any currency internationally supplied and demanded and in which a foreign bank is 57 Multinationalisation of Banking 58 International Banking willing to accept liabilities